Sunday, September 14, 2008

Forget Lehman..... I think the far bigger story is looming in the collaspe of the world biggest insurer AIG...... In a sign of total desperation they are begging the Fed to bail them out...... And with all the recent bailouts it seems only logical for AIG in trying to suck the Fed in ( on top of this it remains to be seen how much toxic waste the Fed can absorb until the balance sheet is similar to lets say a subprime lender .... And it is getting worse by the day ....see Fed Widens Collateral for Loans, Banks Set Up $70 Billion Fund )..... If AIG is failling i assume the implications for world markets would be far bigger than the Lehman BK..... If it is true that AIG had turned down the money from Private Equity and went instead to the Fed ( and would get the money ) it would create the biggest moral hazards so far....

A.I.G. Seeks $40 Billion in Fed Aid to Survive Dealbook NYT
The American International Group is seeking a $40 billion bridge loan from the Federal Reserve, as it faces a potential downgrade from credit ratings agencies that could spell its doom, a person briefed on the matter said Sunday night.

Ratings agencies threatened to downgrade the insurance giant’s credit rating by Monday morning, allowing counterparties to withdraw capital from their contracts with the company. One person close to the firm said that if such an event occurred, A.I.G. may survive for only 48 hours to 72 hours.

Though this past weekend was convened to focus on Lehman, the Wall Street chieftains who gathered at the Federal Reserve Bank of New York also pondered a solution for A.I.G. The firm had become one of the biggest underwriters of complex debt securities known credit default swaps, used as insurance for a wide range of products, including the mortgage instruments that have been the bane of Wall Street for the past year and a half

The firm had planned to move $20 billion from its regulated insurance business to its holding company and to sell assets and a stake in the company to private equity firms. But A.I.G. has ruled out the capital shift because of the time and complexity involved.

J. C. Flowers & Company, a buyout firm focused on financial services firms, offered $8 billion for a stake in the business that would have given it an option to buy all of A.I.G. down the road. Kohlberg Kravis Roberts and TPG also said they would bid.

But all three withdrew at the last minute, citing anxiousness over the company’s precarious financial health.

During a weekend scramble to shore up its finances, AIG turned down a capital infusion from a group of private-equity firms led by J.C. Flowers & Co. because an option tied to the offer would have effectively given them control of the company, an 89-year-old giant that does business in nearly every corner of the world.

The proposed option would have allowed the firms to acquire AIG for $8 billion under certain conditions. That price is just one-fourth of AIG's current market value.

A.I.G.’s extraordinary move of reaching out to the Fed for help may spur other non-investment banks to try a similar move. Companies ranging from General Electric to GMAC have been hurting badly and would desperately love the liquidity that the Fed would provide.

For instance, applying some of Lehman's latest marks to AIG's holdings could result in at least $15 billion in additional write-downs to the insurer's residential portfolio, which has a face value of $88 billion.

How severe were Lehman's marks? Consider that even longtime bears on the stock thought the firm was finally marking its residential portfolio to realistic levels last week.

Lehman Chief Financial Officer Ian Lowitt said on the firm's investor call that the firm was marking Alt-A exposures at about 39% of face value, compared with about 63% at the end of the second quarter. Alt-A mortgages are loans given to borrowers who, while not necessarily subprime, lack documentation to verify their financial condition or other information.

Still, Lehman has thrown down a marker. At the end of June, AIG's marks on Alt-A securities were about 67%. Citigroup, meanwhile, appeared to be valuing its $16.4 billion in Alt-A exposure at just over 80 cents on the dollar.

The fall of Lehman brothers might well lead the news this morning, but the situation for AIG is potentially more serious. Systemically speaking, AIG is a much bigger domino.

For starters, AIG has written more credit protection - via CDS - than Bear Stearns. It is, to wit, a crucial counterparty in many Wall Street firms’ hedging strategies.

Then there’s the fact that AIG is the world’s largest insurer. Trouble for AIG could pull the insurance sector into a deep and very nasty spiral and might well be the knock-out blow to ailing economies.

..... ratings downgrades would spell huge collateral calls from counterparties on AIG’s CDS. The relevant detail is in AIG’s 10Q from June 30:.....

It is estimated that, as of the close of business on July 31, 2008, based on AIGFP’s outstanding municipal GIAs and financial derivative transactions at that date, a downgrade of AIG’s long-term senior debt ratings to ‘A1′ by Moody’s Investors Service (Moody’s) and ‘A+’ by Standard & Poor’s, a division of The McGraw-Hill Companies, Inc. (S&P), would permit counterparties to make additional calls for up to approximately $13.3 billion of collateral, while a downgrade to ‘A2′ by Moody’s and ‘A’ by S&P would permit counterparties to call for approximately $1.2 billion of additional collateral.

Click on the link to get more details on the effect of a downgrade....